Where We Are, Where We Are Headed

0:00My topic is where we are and where we are headed and if one looks at the various recent indicators in the United States of America, it would appear, at least according to most experts, that monetary policy or lose monetary policy of Mr. Greensman appears to be working. That's what they're saying. saying that we had some good revival in the so-called purchasing management index, consumer confidence index appears to be strong according to the mainstream view and if one looks at the famous yield spread between the long term and short term interest rates shows quite a stronger rebound and then using appropriate legs so the argument goes it points to further revival in the Industrial Production. So it looks like as if everything is great and Mr.

0:58Greenspan has achieved this task. What I will be arguing today that it's not if there will be a recovery. It's got nothing to do with Mr. Greenspan as such and the critical element in all that is I believe is this something called the Pool of Funding. And before all this, I'll introduce this concept of Pool of Funding, which many of Austrians are familiar with that. Just like I would like to mention that the mainstream economics, and also some non-mainstreams, basically argue that the most important thing is to keep demand going. And the theory goes like that. All you do is push demand, either by lowering interest rates or pumping money, and ocus pocus preparacus jumps and you got recovery.

1:48And that's all you do is just boost the so-called demand. There are other parts saying all you do is just boost supply and things are also going to happen. None of them or very little been said as how this is gonna be funded. And that's why it's so important to use the issue of funding. This concept, although it might be abstraction, so the nice thing about the Austrian framework or von Boehm-Bawerk in particular, he has introduced so-called concretization of the abstraction. And this concretization could be presented by the following thing. For instance, imagine a baker here, he produces loaves of bread, and the loaves of bread, the bread that he is producing, it basically is finding that's his wealth. Now, what it does with this wealth, a portion of it is used in final direct consumption.

2:38You can see it basically consumes his bread, right? And the other portion is exchange of his bread, exchange for other goods like share. So all this we call consumption. And the other part of his bread, because it doesn't consume all his production, it basically uses to exchange for the services of various individuals who are producing various tools and machinery. Or he wants to upgrade his infrastructure, his bakery, he wants more ovens to be able to produce more breads. So he's saving, he's channeled here, and this bread, this means of sustenance, so to speak, or this funding, funds all that, and as a result of that now we can have much greater production, he can have much greater production of bread in the future, and this will enable him to consume more and also to save more.

3:24Now this element, this arrow here, basically when the part of bread which is channeled towards producing of all of the ovens, we call basically saving. And that's what saving is, to fund intermediate stages of production which ultimately culminates in capital goods and tools and machinery which enables to produce greater amount of final production. Now, the whole issue of pool of funding is of importance because it doesn't really, it makes an important point here that economics is not about consumption as such, it's not about production as such, it's actually about something greater than all that is to achieve to achieve the ultimate goal to maintain life and well-being of individuals, that's the ultimate objective of everybody and both consumption and production in the free market least operate in a tandem to achieve this ultimate goal which is the life and individual's well-being.

4:44So it's wrong, as far as I'm concerned, to argue that consumption is more important than production, or production is more important than consumption. In the free market, they all operate in tandem, in sync, and in fact you can see in this diagram that to produce the ultimate wealth, and this ultimate wealth are the final goods and services that are required to sustain our life and well-being, We basically, this foot plate, so to speak, this foot plate supports various individuals who are engaged in various stages of production, intermediate, or we call it higher stages, or lower stages, and ultimately the final stage here, which again, I cannot present it in this particular diagram, it gives us the final product which are here.

5:35In other words, the pool of funding here in the free market economy, so to speak, initially it's locked into the production of various intermediate goods and services and finally it's unlocked or released back in terms of the original amount which was invested plus more and that's really what economic growth is all about, the capital of funding is released all the time First, it's unlocked. This locking enables the creation of better infrastructure, and that's how economic growth is developing. That's what economic growth is all about, enlarging the pool of funding. Now, the problem, of course, erupts. Sorry, in a free market economy, the pool of funding by itself will be meaningless, or creation of funding will be very difficult without having money as such, which plays an important role of division of labor where people of various specialities can exchange various goods and services with each other.

6:44In other words, to promote their life and well-being, they can exchange things that they have got for things they prefer more. Naturally, how economic growth can take place, but money is necessary, money as a medium of exchange. works basically as somebody produces certain important thing exchanges this for money and then it can exchange money for something that they really wants so which means that with the help of money something can be exchanged for something else something for something the subject in other words consumption is funded fully funded by production or again production production first and then consumption second and in other words everything is perfectly matched the The problem erupts when monies get abused. We call it inflation. Inflation can be presented as just a monetary balloon. Money is printed out of thin air. You can see the expansion of money all the time. That's really what inflation is. It's got nothing to do with so-called price indices and various price deflators. Inflation is purely printing money,

7:44expansion of the balloon. And how printing money destroys things? Well, very simple. In a free market, unharmed economy, we have a perfect harmony between consumption and production. Consumption is fully measured by production, which in turn supports the production. Consumption supports production, and everything is perfectly in tandem. When money is created out of thin air, and imagine here a little Johnny counterfeiter, he basically printed money and sits and rests nicely now. What he does basically, he exchanges this counterfeit money for something, right? In other words, he produced absolutely nothing, and actually helps himself, consumes, it takes without giving back in return nothing. So what he did basically here, he exchanged nothing for something, or there was zero production, production of wealth, there was a lot of consumption of it.

8:33So basically this we call counterfeit, highway robbery, theft, if you want, embezzlement, any other word in English is accepted here, it's all basically amounts to stealing. And, but, ladies and gentlemen, the same practice is actually being conducted by central banks, I mean, there's no difference between the economic act of this particular little counterfeiter here and what the central bank does, what central bank or any monetary authority which engaged in printing money, they're basically engaged in creating exchange, setting in motion the exchange of nothing for something, which means the same thing, stealing. The only difference between the The notes or money which is created by the central bank and the counterfeiter, the central bank notes are called legal tender, the counterfeiter money is illegal tender, right, because it competes with the big monopolies here, but otherwise the economic effect is the same, they both steal from the wealth generators.

9:34Now, and how this theft, if you want, sets in motion business cycles, for instance. Very, very simple here. Once you start printing money, and that's what the central bank does, it will be this monetary printer will be accompanied by also artificial lowering of interest rates. And what will happen then, producers will start basically various activities, In other words, as I said before, there are various complex stages, many stages here before the final product is produced, but all the stages are in total harmony and sync.

10:22Now, all of a sudden, a businessman, once he observes lower interest rate, he basically responds to it and it tries to do certain things that this lower interest rate tells him. It tries to expand various capital projects, which ultimately ends up that they will be out of sync. In other words, far too little will be invested in the stages which are producing the final consumer goods. and hell of a lot will be invested in stages of production which are far remote like mining or iron, steel and various infrastructure which is completely removed. We cannot see it with naked eye. They're linked to final consumer goods.

11:09Or you can say that there are far too many fiber optic cables being produced, for instance, and far too little demand for it, right? in this regard, or you got very many highways and not enough trucks and not enough goods to ship all this, right? So that's really what develops the total situation of out of sync. I call it the pyramid, right? A useless pyramid in this regard. And bear in mind that this pyramid here got no linkage at all to the pool of funding. In other words, the funding in this case here have been locked and then unlocked back, released back to the initial pool and contributes to economic growth. It's been released, locked here, and stays locked, basically. It's never released back, this is a dead capital, so to speak, been destroyed.

11:55So what it does, it dilutes from the original pool of funding, and obviously it starts to weaken the wealth producers, because wealth producers now have less funding. It's important to mention the aspect of funding, every activity has to be funded. Even if you have nice tools, but if you don't have means of sustenance to support your stomach, you'll be dead, it won't work. Take Argentina, it's an extreme case, right? So, pool of funding is of utmost, and if the pool of funding is being destroyed or locked here, obviously the heart of economic activity will start to be affected. In the meantime, in terms of GDP and various economic activity indicators, all looks very good. The Central Bank gets very encouraged and says, well, our policy is working. Why is it still working? Because as long as the pool of funding still expands, things will appear to be fine as if things are going, as if we are very successful.

12:52And the success prompts the Central Bank to raise the balloon further, to pump even more money. And obviously, this forces further expansion in capital goods, which I would say could be depicted by more pyramids than pyramids, right? And all those pyramids require engagement of workers who are engaged in building these pyramids. They cannot just spring out of the blue. You have to have more workers. You have to feed them. You have to sustain them. And where all this comes from? It will come from this pool. And if all of a sudden we engage to a greater extent in distortions, and we distort this infrastructure to such an extent that the current structure will only enable you to produce a diminishing pool of funding vis-a-vis previous situations, we are in serious trouble.

13:44Now, as a rule, central banks, when they would observe that this monetary expansion would cause various unbearable symptoms, they basically would say, well, we have to do something against that, and they would cool off this thing, in other words, they would try to burst the bubble. And by bursting the bubble, the diversion of means of sustenance, of pool of funding, to those guys would be arrested for slowing down. Obviously, this creates unemployment because all those people are engaged here and spare capacity, so to speak, developed and everybody is crying, this is morally incorrect, you shouldn't do such a things, and what the Austrians are telling you, that's a good policy, those guys are really nutcases because they're talking nonsense, there's a lot of unemployment here and we've got to help those people, we cannot afford to have a recession. Now, obviously, after a while after the pressure, central bank succumbs to this pressure and starts and all it does basically it continues to weaken this pool of funding.

14:45A situation emerges, can emerge, and that's not always happens, but it can happen, it happened several times in history, when the pool of funding begins to shrink. Once it shrinks, that's what makes the distinction between recession and depression. Ladies and gentlemen, again, the recession and depression is not as such about so-called GDP, and the strength of GDP etc. basically by the fact that there was a lot of distortion caused by false monetary policy which caused those distortions in various stages of production and caused the structure of production to go out of sync which in turn caused the capital of funding to be locked and prevented the unlocking of the capital.

15:30All this thing, once it happens, and pool of funding begins to shrink, depression emerges, people of various importance, stature, screaming, we have to do something more, we have to print money on a massive scale, we have to help those people. Well, it all looks very good, but the one thing they have forgotten is that this thing shrinks. It doesn't matter what you do, you can hit your head, bash your head against a brick wall, it's not going to happen, it's going to help you, because the pool of funding is not going to grow. to grow the pool of funding, you have to stop the diversion of it, let the wealth generators gradually build it up until more wealth will set in and only then, perhaps, sometime in the future, we'll be able to absorb all the distortions that took place, some of them probably will never be able to be absorbed in other words, they are dead wood completely, pyramids, some of them, perhaps, sometime in the future we'll be able to bring them on board

16:24In the meantime, what needs to be done is perhaps to absorb all those individuals here, back here, but the process is very slow, requires a lot of time, that's the reason why Austrians or Misesians argue that you have to do absolutely nothing. Absolutely nothing means to do hell of a lot. Don't divert the real wealth, the real funding from wealth generation activity towards non-wealth generating activities. So to recap what I said, wealth or pool of funding basically supports wealth producers who in turn are adding further to the pool of funding and then of course if we have another class here or just class of parasites if you want, non-wealth generators, we're sitting here and as long as the percentage of wealth generators exceeds the percentage of wealth consumers, we basically still got a good situation more wealth is created because more is put in, vis-a-vis taken out, and we can continue to grow but once the balance moves in another direction, more non-wealth producers are emerging

17:36then we in serious trouble, we are in a depression now what I will argue today, first of all, that the outlook for the US economy there is a growing possibility that the so-called cyclical upturn and manufacturing has already begun, I would say, but again we'll discuss what it's all about. I'm suggesting that the Fed will continue to lower interest rates further and the strong rises in liquidity should provide support to stock and bond prices. Looking at the historical relationship between interest rates and the changes in the industrial production and taking into account that recessions are about liquidation of errors, I'm suggesting that the current recession has begun not in March 2001 but actually in June 2000, right, and this happened as a result of the fact that Fed has raised interest rates a year earlier from 5%, started to raise until May 2000 to 6.5%. This was the precursor, basically, it was set in motion, the current economic recession, if you want, but since January last year we had aggressive monetary loosening, which I'm suggesting set in motion

18:56the process of cyclical recovery in the industrial sector. Now cyclical recovery shouldn't be confused by some miracle or whatever, all it basically does is continue to further misallocation of resources, reshuffling of the existing pool of funding. It doesn't grow anything, it only destroys things. But we like this word cyclical because it creates illusion of recovery, so we say well central bank creates economic growth and economic growth can occur but not because of the central bank policies, because the pool of funding is still growing, because there's still enough wealth generators who are creating wealth in spite of bad policies of the central bank. Now the current policies in United States, and I'm arguing, might have set the possibility that the pool of funding could be in serious trouble. In fact, I would argue that United States might be following in the footpath of Japan. Look at the interest rate policy since the beginning of 80s. The policy was on a steady trend, the downtrend from 9.5%

20:02to current 1.75%. If you look at the monetary pumping, I have introduced here so-called the monetary injection if you want or money stock in relation to trend prior to 1980 prior to financial deregulation and you can see that the massive monetary explosion that took place in the United States and for that matter in other countries and in December in relation to trend the money AMS the Austrian definition of money was 80% above the above the historical trend and I'll skip it and if For every dollar of monetary printing, obviously it generates a dollar of the saving of wealth destructions, even on government data, with all the critique on it, and I'm just using for illustrative purposes only, shows a tremendous collapse basically.

20:58It doesn't suggest that this is the right measurement or whatever, it's just another Keynesian dump of formulation, how the whole thing is measured, but I just wanted to show for illustration purposes, even Keynesian measures are terrible. If you look at the indebtedness in the American economy, it's catastrophic. For instance, the household's liabilities to assets have risen to a record high now. In other words, the liabilities exceeding by a great margin the productiveness of assets. The assets are not growing enough. And the same applies also to the so-called corporate. corporate, you can see at record high, all this is basically atomic bomb, taking nuclear disaster, if you want, and this says to me something about the nature of the pool of funding, which could be in serious trouble, if you look at the consumer's real net worth, it's also in a very bad shape, in real terms, again, as far as one can calculate such a thing, so all in all, the likelihood that we are

22:07in a serious situation, as far as funding is concerned, is very high. Also taking into account that the investment-to-consumption ratio and trying again to relate it to the Austrian theory, which suggests that when you lower interest artificially, you create various pyramids. So instead of producing final consumer goods, you're producing far too little consumer goods in relation to capital goods production. The ratio of capital goods production to consumption goods is rising enormously. Historically, the ratio used to be 0.12. Now it's in the vicinity of 0.2, implying even using, again, the Keynesian data, national accounting, we are in serious trouble. It might take many years until those excesses will be cleaned up.

22:58So prior to that and before that, you can forget about having any meaningful recovery. It's not possible to have such a thing. You can have various so-called cycles if you want, etc. The question that I would like to ask here is how it's possible that America, America, which has been pursuing bad policies for so many years, continues to manage to produce good economic growth in terms of GDP, while other countries like Japan, which has been pursuing the same bad policies, suffering already for the last decade. Well, first of all, I would argue that both Japan and the United States, as you can see, both were pumping money in the same way. You can see the shape of it. Also, both were conducting and low-interest policies. The downtrend is exactly the same, more or less.

23:59So how come, again, the Japanese are in such a bad shape and the Americans are not? And here, of course, I would agree with the mainstream economics, but that's also what Austrians are saying, that the American pool of funding was held by the rest of the world. The rest of the world was supporting the American pool of funding. Now, you can see in terms of balance of payment in the United States, a massive deficit, Deficit, and you can see the Japanese balance of trade with the United States, what happened here. In short, what happened to Japan is very interesting, right? Their pool of funding was supporting their parasites here, some of the wealth producers, and there were very little left, and also a big portion of it went to the United States of America. But what they got in return for America, by giving America all the goods and services, they got Lot of treasury bonds. Now imagine Baker would exchange his bread for treasury bonds. So instead of supporting his infrastructure and funding his infrastructure of ovens, he would basically use his savings to buy treasury bonds.

25:03What would he get? Absolutely nothing, right? He would basically be buried with useless papers, so to speak, right? And his pool of funding would be suffering and shrinking. And that's basically what happened in Japan. Japan was, I would argue, and also other countries in the world, was impoverished, still impoverished by the American policies. Now how it happened? Very simple. American dollars can be printed. American dollars is an international medium of exchange. It's the only currency. And whenever Americans are printing money, what they're doing basically, they're in a position like any counterfeiter if you want, right? The first to buy any goods and services from the rest of the world and by doing this they're bidding up prices of other goods and services, denying other countries, if you want, to have access to this particular international pool.

25:49So as long as the international pool of funding is still there, even if the American pool of funding is not growing or in problems, America can continue to survive. but there are bad stories are coming that the world is also suffering now. Japan is in terrible shape, rest of the world is probably not going to be doing to do very well so this could could produce serious trouble for the American pool of funding and it's just to show you the amount of of treasury bonds held by foreigners right and you can see the percentage is just continues to grow further and further. Final notes I'll just put a little bit on the stock market. Stock market ladies and gentlemen is just a place where facts of reality is evaluated.

26:35Stock market does not create anything, right? And to Austrians, at least, it's a fallacy to say that falling in the stock market causes a recession. It doesn't cause anything of the sort. Stock market just evaluates things, evaluation. My perception on things cannot alter the facts of reality present, right? And these are facts, and that's what it is. As a result of lose monetary policy, my perception, my evaluation got distorted. Once monetary policy is tightening, I can see the reality much better. And that's really what the stock market is telling us. And whenever the pool of funding comes to serious trouble, and obviously this is manifested also by profits, I believe that sooner or later the reality has to hit also into the stock market.

27:24There is only one factor which might upset all this, and this is the so-called liquidity factor. Monetary pumping creates illusion of wealth. And you can see that, historically speaking, as the amount of liquidity gone up with certain lag, it would push the momentum in the stock market. So liquidity is very important, ladies and gentlemen. However, liquidity by itself cannot drive the market if the bottom line is not there. If the pool of funding is not there, eventually there will be divergence, massive divergence, and so-called pushing on the string takes place. Whether it's already emerging, I don't know, but all that I can suggest, it will not surprise me that this could be the case, definitely the case in Japan. A bond market, liquidity is very important, despite the fact that the underlying savings is not there, the bottom line is not there.

28:14But the fact that treasury bonds or government is perceived as a blue chip, as the riskless paper, is still there in the image. And as long as liquidity is there, it should benefit the bonds. So it appears to be still good. But the issue of the possibility of a credit crunch, very much there, despite of so-called liquidity, because what matters is the proper liquidity, the real funding. Finally, a few words about gold. I think gold suffered a lot. There is a good possibility now that the strong rebound in liquidity might bring certain light to gold and sometime, in a few months' time I would say, we could start seeing a certain recovery in gold.

29:05I believe it should happen, at least my monetary indicators for the first time in many years are turning a bit positive, bullish on gold. And various other commodities, I think that there could be certain illusory bottoming, but if the pool of funding is not there, I don't think we'll have a rebound as in gold or anything of the sort. So, who needs all various commodities? After all, various stages of production are exaggerated, particularly the longer stages. We've got far too many capital goods, and so I don't think there will be a great demand for various metals as such. And I think I'll stop here and just to conclude basically that if we'll have a recovery, so-called industrial production, it's basically just a false situation.

30:03The crux of the matter, what matters here is not GDP as such, but whether the means of sustenance are there, possibility of Argentina, it's unthinkable that it can happen in America, right? But think about also Argentina, it's very advanced, sophisticated countries, and what's happened? Run on banks, people cannot get their money because money was squandered, basically people's saving was destroyed by reckless policies. And important here to add here, when the people are holding money, they basically always believe that this money got certain backup. This again implies that somebody is producing goods, but that's not the case, and we got very ominous signs also in the United States of America.

30:52So here I'll stop, and thanks a lot.